How Much Should I Spend on Car Payments?

If the type of car you want suits your needs and fits into your budget, you are one lucky person. What usually happens, though, is that the car of your dreams is not practical or affordable. Before you indulge your dream car fantasies any further, determine what you can actually afford.

Down Payment

Before you buy a car, consider your monthly car payment and then scrape together a down payment, either with cash, a trade-in or a combination of both. The more money you put down on a car, the lower your monthly payments. Even if the dealer allows you to make a small down payment, Consumer Reports advises that you put down at least 20 percent of the purchase price of the car. Reducing the amount you have to finance also reduces the interest you pay over the life of the loan.

Budget

Before you borrow money to buy a car, determine how much you can afford to pay each month. One rule of thumb is that your total debt should not exceed 36 percent of your income. Use your pretax income as your base. Then, determine your annual debt. Include items such as mortgage or rent, utilities and your credit card bills. If, for example, your total debt accounts for 30 percent of your income, you should not spend more than 6 percent of your income on a monthly car payment. Say you make $50,000 a year; 6 percent of that is $3,000. Divide that by 12, and you get $250, the total you can afford to spend each month on a car payment.

Interest Rates

Your monthly payment also depends on what kind of interest rate you get. Don't automatically finance through the dealer without first shopping around for a better rate, perhaps from your bank or credit union. Get a copy of your credit report from AnnualCreditReport to get an idea of how high or low your credit score is. You won't be able to view your actual credit score unless you pay extra -- usually around $15, as of 2010 -- but you can check for the accuracy of the credit report. If there are errors, your score could appear lower than what it should be. Also, once you know your credit score, you know whether you qualify for the best interest rates or whether you have to settle for paying a higher rate.

Expert Advice

It's easy to be lured into buying a car you can't afford, but don't do it, recommends Bob Litwin of the Consumer Credit Counseling Service. Just because you qualify for a loan, doesn't mean you have to take and spend all of it. If you buy a car you can't afford, the new-car thrill soon fades when you can't afford to go out to dinner or even buy groceries.